A win-win reform for firms and workers

A paradox exists within the personal grievance provisions of the Employment Relations Act 2000. By prohibiting “unjustified dismissal,” the provisions were designed to guard the jobs of ordinary workers.

The premise behind the provisions is that the common law lacks sufficient safeguards for workers against capricious or arbitrary conduct by management. To guard against this conduct, workers may only be dismissed for cause, and only if management has acted fairly. The days when employees were let go on “three weeks’ notice” are in the distant past.

When first introduced in the 1970s, only unionised workers could use personal grievance protections. Then, in 1991, when the Bolger-led National government repealed compulsory unionism, its Employment Contracts Act extended personal grievance procedures to all employees. For the first time, business needed to jump through all the hoops of the unjustified dismissal regime when considering the employment status of management.

Yet, as countless boards and business owners will attest, constraining businesses from firing poorly performing, high-earning managers is a handbrake for firms looking to boost performance. There is a world of difference between C-grade and A-grade management. Indeed, it may be the difference between business success or failure. Yet mediocrity is no longer enough for dismissal.

Vulnerable workers at risk

This is the paradox. Mediocre bosses threaten productivity and increase the risk of business failure. This in turn puts the jobs of low-paid, vulnerable workers at risk. Laws designed to protect workers are jeopardising their jobs.

Recognising this risk, Australia’s Fair Work Act 2009 excludes employees earning above a defined “high-income threshold” from the protections of Australia’s unfair dismissal laws. The threshold is adjusted annually and is presently $A148,700. Consequently, an Australian firm can fire an unexceptional manager simply by complying with the notice provisions in the manager’s contract. No need for time-consuming and demoralising “performance management” or pedantic box-ticking compliance processes. “It’s not working, and we want to try someone else” is enough justification for dismissing Australia’s high earners.

New Zealand had a chance to follow in Australia’s footsteps in 2017 when National MP Scott Simpson’s private member’s bill was drawn from the ballot. The Employment Relations (Allowing High Earners to Contract Out of Personal Grievance Provisions) Amendment Billwas not without its flaws. Unlike Australia’s legislation, it did not apply once an employee crossed the high-income threshold. Instead it contained clunky provisions letting employees earning more than $150,000 “contract out” of the unfair dismissal regime.

The bill was also criticised for being drafted too widely. In some respects it may have been – although most of the criticism was wide of the mark.

Despite its critics, the bill would have brought New Zealand’s labour laws into line with Australia’s. In doing so, it would have freed up boards and business owners to replace high-earning employees who were not up to scratch.

Lost opportunity

Unfortunately, the bill did not survive the change of government in 2017. It was voted down on its second reading shortly after the Coalition government was sworn in. This was a lost opportunity for both firms and workers. Economic theory says complex dismissal protections for high-earning employees hurt a firm’s hiring and firing efficiency by raising transaction costs.

All other things being equal, businesses are incentivised not to hire the marginal worker. Conversely, they will choose to retain unproductive workers whose wages exceed their productivity. These distortions have the potential to reduce productivity. And, in the case of senior management, significantly so.

The common rationale for protecting workers is the inequality of bargaining power between employers and low-skilled, low-paid workers, and the financial vulnerability of low-paid workers in the event of dismissal. This logic is weaker for high earners who generally have the economic nous to negotiate their employment terms. They are also more likely to have the financial and human capital needed to protect them if they lose their jobs.

Just as the rationale for protecting high and low-paid workers is asymmetric, so too are the potential distortionary effects on productivity. Protecting an unskilled worker against dismissal without cause is less painful to a firm’s productivity – or its viability – than constraining its ability to dismiss a second-rate senior manager.

Labour market reform is often polarising, with firms and workers divided into “winners” and “losers.” Introducing an Australian-style exemption to our unjustified dismissal laws would be a win-win for both the firms and vulnerable workers these laws were designed to protect.